In-House Counsel Committee Report

Shareholder Derivative Claims for EESG-Related Risks

a Trend in the Making?

In In re: Caremark Int’l Inc. Deriv. Litig., the Delaware Court of Chancery, while reviewing the sufficiency of a proposed settlement of a shareholder suit, opined in favor of finding board liability for failure to exercise sufficient oversight of health-care related contracts that ran afoul of an anti-kickback statute. Since that time, “Caremark claims” have entered the lexicon of corporate governance jurisprudence and are considered to be, as the Caremark court explained, “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.” Yet the number and breadth of recently filed shareholder derivative suits that allege failure to oversee employee, environmental, social, and governance (EESG) related risks brought under Caremark does not appear hampered by that early characterization.

Under Delaware law, boards must exercise proper oversight over the company. Failure to provide “sustained or systematic” oversight through “a reasonable information and reporting system” can result in board liability in two ways: a board can breach its fiduciary duty when the board either (1) “utterly fail[s] to implement any reporting or information system or controls” (a “prong 1” claim) or (2) “having implemented such a system or controls . . . fail[s] to monitor or oversee its operations thus disabling themselves from being informed of risks or problems requiring their attention” (a “prong 2” claim). Under a Caremark prong 1 claim, judicial scrutiny emphasizes review of the eistence of processes used to funnel information to the board, leaving “the level of detail that is appropriate for such an information system” to “business judgment.”

As has been observed, “Delaware courts have breathed new life into the [Caremark] doctrine,” expanding requisite board oversight into much broader areas of a company’s business, indeed even in areas in which compliance is measured in terms of being “voluntary or aspirational.” Some recent cases arise from alleged failures in oversight of monoline corporations operating in a highly regulated industry, and others appear to signal an expansion of liability found beyond traditional financial or governance matters.

Much of the case law addressing a “classic” or “traditional” type of Caremark claim may create the impression that plaintiffs generally have a good chance of success, at least at the motion to dismiss stage, where there is a close causal link between a board’s alleged failure to oversee and the underlying legal or regulatory risk. The likelihood of success seems to be even greater where plaintiffs meet or exceed the requirement to allege “particularized facts” applicable to Caremark claims. A number of articles have collected and discussed the first type of Caremark claim, and chief among the relevant cases are Marchand and Boeing.

Marchand v. Barnhill arose from high-profile listeria contamination present in Blue Bell Creameries’ ice cream that killed several consumers. On appeal, the Delaware Supreme Court held that Blue Bell’s board breached its duty of loyalty to the company and stockholders when it failed to “make a good faith effort to exercise its duty of care.” The court faulted the board for failing “to put in place a reasonable system of monitoring and reporting” on compliance with food and safety requirements, noting that food safety for a company that processed ice cream was “essential and mission critical.”

Similarly, after two Boeing 737 MAX airplanes crashed (in 2018 and 2019), plaintiff shareholders alleged that Boeing’s board had breached its duty of loyalty by failing to have systems or controls in place to address airplane safety. In In re Boeing, the Delaware Court of Chancery considered whether the board likely breached its duty of loyalty, likening the “externally regulated” and “essential and mission critical” nature of airplane safety to Boeing’s business to food safety in Marchand.

There appears to be a second category of cases that seek relief for conduct outside the “classic” or “traditional” types of Caremark claims, posing broader definitions of the terms “externally regulated” and “essential and mission critical.” For example, in McDonald’s , plaintiffs allege that the company’s human capital and reputation are critical and recently prevailed on a non-director corporate officer’s motion to dismiss. Similarly, in Pickett v. Gorevic, plaintiffs allege that an executive’s “extramarital sexual relationship” that violated publicly-touted company policy and dampened employee morale rose to a Caremark claim. Likewise, in Firemen’s Ret. Sys., the court observed that cybersecurity has now become “an area of consequential risk that spans modern business sectors” and even “[t]he President of the United States has named cybersecurity a ‘top priority and essential to national and economic security.’”

Although Marchand and Boeing both seem to indicate that “essential and mission critical” may only relate to the primary regulatory space which a company may be subject, cases like McDonald’s, Pickett, and Firemen’s Ret. Sys. suggest an expansion of liability risk in areas pertaining to employee, environmental, social, and governance issues thereby raising questions about whether broadly applicable EESG and related risks might rise to the level of “essential and mission critical.” In other words, should this apparent expansion of Caremark liability continue, in-house counsel would be well-advised to monitor EESG areas for those that could be deemed “essential and mission critical,” such as: climate change and greenhouse gas emissions, cybersecurity, artificial intelligence, human rights, COVID-19/pandemic response, DEI, cryptocurrency, and others. Of course, not all cases give rise to liability, as the reach of Caremark and Marchand­ theories approach an outer boundary.

Civil Rights and Environmental Justice:

a Deliberate, Rising Tide in 2022

Two years into the Biden-Harris Administration, the tide appears to be turning for a reinvigoration of Environmental Justice (EJ) through the Administration’s use of Title VI of the Civil Rights Act of 1964 (Title VI) and other tools to make good on a campaign promise to implement EJ reform. Title VI prohibits federal agencies—and any entity receiving federal funding, including states—from discriminating on the basis of race, color, or national origin in carrying out programs using federal funds. While recognized as a powerful tool for rooting out discrimination in this context, Title VI’s full potential has been unrealized, due, in part, to a lack of agency action and constraining Supreme Court precedent. We are now starting to see a greater commitment to effectuate EJ reform, including through Title VI, across the federal government.

Recent EJ developments can be traced back to the Administration’s January 2021 Executive Order 14008 (EO 14008), the first federal effort to comprehensively address EJ since 1994. While EO 14008 does not expressly invoke Title VI, it outlines a “whole-of-government” approach to EJ by expanding federal agencies’ responsibilities to address EJ, introducing initiatives to increase government accountability, and increasing enforcement efforts in disadvantaged communities. EO 14008 also strives to empower those communities in environmental matters, by supporting engagement with decision-makers and prioritizing economic opportunity for their members.

Building on EO 14008, the Environmental Protection Agency (EPA) released a draft Strategic Plan in October 2021, which pledged to “embed” civil rights and equity into all aspects of its work and to use Title VI and similar authorities to do so. Finalized in May 2022, the Strategic Plan committed to integrate environmental justice and civil rights into “the Agency’s core work.” This represents an enhancement of EPA’s mission, one which more fully integrates considerations of equity and justice in its environmental protection programs.

Moreover, both EPA and the Department of Justice (DOJ) created new offices dedicated to EJ. In May 2021, DOJ announced the creation of a new Office of Environmental Justice (OEJ) and simultaneously issued a Comprehensive Environmental Justice Enforcement Strategy describing how it will prioritize cases that “reduce public health and environmental harms to overburdened and underserved communities.” EPA followed suit in September 2021, merging three programs into the Office of Environmental Justice and External Civil Rights to enhance the agency’s ability to “infuse equity, civil rights, and [EJ] principles and priorities into all EPA practices, policies, and programs.” The reorganization is expected to invigorate a historically lackluster civil rights enforcement record, which has been criticized by environmental advocates and EPA’s Inspector General.

Consistent with this enhanced, “whole-of-government” approach, in November 2021, DOJ announced a Title VI environmental justice investigation looking into the Alabama Department of Public Health’s practices surrounding wastewater treatment. This Title VI environmental justice investigation is the first of its kind. DOJ is examining whether the Department and the Lowndes County Health Department—both of which receive federal funding to improve wastewater treatment systems—“operate[ed] their onsite wastewater disposal program and infectious diseases and outbreaks program in a manner that discriminates against Black residents of Lowndes County.” Lowndes County’s alleged deprivation of access to adequate wastewater treatment is well documented: A 2017 study that surveyed sixty-six Black Lowndes County residents from twenty-four homes reported that over 73% of participants reported exposure to raw sewage in their homes, and over 30% had tested positive to hookworm, a sewage-related parasite. DOJ is investigating whether the Departments’ policies and practices have caused Black residents to disproportionately and unjustifiably bear the risk of adverse health effects associated with inadequate wastewater treatment in violation of Title VI.

Then, in mid-2022, DOJ announced a Title VI investigation into the City of Houston’s allegedly unequal, ineffectual responses to illegal dumping in Black and Latino neighborhoods (as compared to the City’s responses to dumping in other neighborhoods). The investigation was spurred by allegations regarding the City’s failures to respond to Latino and Black residents’ complaints about the illegal dumping of furniture, tires, medical waste, trash, and other items in their communities. DOJ will investigate whether the City’s solid waste management operations, policies, and practices discriminate against minority Houston residents in violation of Title VI.

Although the results of these high-profile investigations remain to be seen, the Department of Housing and Urban Development’s (HUD) recent findings regarding the City of Chicago’s land use practices may foretell things to come. In July 2022, HUD found that the City had violated Title VI (and the Fair Housing Act) on the basis of “shifting polluting activities from white neighborhoods to Black and Hispanic neighborhoods, despite the latter already experiencing a disproportionate burden of environmental harm.” HUD’s investigation was prompted by the City’s decision to move a large scrap metal recycling facility and steel plant out of predominantly white community into Black and Hispanic communities. HUD has threatened to withhold federal funding if the City does not resolve the alleged Title VI violations. As of October 2022, the City and HUD were negotiating over potential land use policy reforms. While HUD’s investigation was pending, the City denied the recycling facility’s operating permit application based on findings that the facility would lead to increased air pollution in vulnerable communities. The facility operator has appealed.

In-house counsel should view HUD’s investigation as a cautionary tale, and in light of the Administration’s efforts to reinvigorate EJ enforcement, expect an increasing use of civil rights statutes, including Title VI and similar authorities, by federal agencies to advance EJ. As EPA begins the process of “embedding environmental justice and civil rights into [its] DNA,” with OEJ as a partner, practitioners can expect to see EJ and civil rights come up in a broader range of contexts from permitting to enforcement, and everything in between.

In-house counsel can take several steps to ameliorate the risks such federal efforts pose by:

•  Monitoring local news in the areas in which your company operates to identify historic and potential issues, such as the alleged illegal dumping in Houston and the claimed wastewater issues in Alabama,
• Becoming familiar with environmental justice screening tools, such as EPA’s EJSCREEN, to develop a better appreciation for the communities in which facilities are located or where impacts are expected to occur,
• Evaluating the reputations of permitting agencies or other partners that receive federal funding to screen for potential civil rights/EJ vulnerabilities while assessing operations and making recommendations to mitigate associated risks, and
• Maintaining familiarity with EPA guidance on civil rights/EJ matters such as how cumulative impacts are considered in permitting decisions.

The pace and scope of recent federal efforts to reinvigorate and recalibrate civil rights laws for EJ enforcement warrant careful consideration. In-house counsel can, and should, prepare accordingly in order to avoid being caught flat-footed and be ready to help counsel their businesses on how to navigate this rising tide.

III. Efforts to Harmonize Food Product Dating Are

No Longer on the Back Burner

Over one-third of food produced in the United States is thrown away, primarily from homes and consumer-facing businesses. In fact, food waste accounted for 21.6 % of U.S. municipal solid waste generated in 2018 and 4% of U.S. greenhouse gas emissions. Inconsistent product labeling likely contributes to this waste: consumer surveys suggest that up to 20% of food waste may be attributable to misunderstood date labels. This comes as no surprise—common variations in date labels include “sell by,” “use by,” “enjoy by,” “best if used by,” “expires on,” “fresh until,” “best before,” and, sometimes, just a date without explanation. State legislative and industry efforts to simplify and clarify food product date labeling, and thus reduce the environmental and social impacts of food waste, made incremental progress in 2022.

Many food product labels do not clearly distinguish between product quality or freshness and product safety and induce consumers and businesses to discard palatable and safe products solely because they are past date. Varying state laws compound this uncertainty by requiring different date labels with different meanings on different food products (such as dairy, shellfish, or prepackaged sandwiches), and can even require food distributors to discard past-date products. Consumer surveys suggest that standardized and clarified product labeling would improve consumer comprehension, increase confidence in their food’s safety, and help them discard less food.

Consequently, both the federal government and some state governments have supported simplified, uniform food date labeling requirements. Both the U.S. Food and Drug Administration and the U.S. Department of Agriculture recommend date label uniformity of date labels, but neither has proposed a rule related to this issue . Similarly, bills introduced in Congress have made little progress.

States including California, Washington, and Massachusetts have sought to address this gap. In 2017, California enacted legislation to encourage—but not require—standardized date labeling, which helped to spur a national trend toward uniform labels to indicate freshness (“BEST if used by” or “BEST if used or Frozen by”) and safety (“USE by” or “USE by or Freeze by”). In 2020, Washington considered but did not act on legislation to require date-labeled foods to use this same scheme. And in 2021 and 2022, the Massachusetts legislature also considered a bill to require conformity with these uniform date labeling practices, but the measure ultimately failed.

In the meantime, food industry associations have urged their members to simplify and standardize food date labels. A joint effort launched in February 2017 by the Consumer Brands Association (formerly the Grocery Manufacturers Association) and Food Marketing Institute has seen particular success: by December 2018, 87% of CBA and FMI members had adopted the streamlined date label phrases. However, this impressive industry response may only affect about 35–43% of products. Additionally, a recent consumer survey found that only about 64% of respondents understood that “BEST if used by” was intended to indicate product quality, and only 45% understood the food safety meaning of “USE by,” but the survey also found that education increased general understanding of both labels to about 82%.

Even as more work is needed to standardize date labels and change consumer behavior, state and industry efforts recognize that harmonizing food product labeling would likely yield broad and impressive benefits. While nation-wide uniformity would surely ease compliance burdens, food manufacturers, distributors, and other companies in the food product supply chain could also make progress towards achieving Environmental, Social, and Governance (ESG) goals by reducing downstream waste and climate impacts of their products. According to the EPA, reducing food waste would “lessen the need for new food production” and as a result “shrink[] projected deforestation, biodiversity loss, greenhouse gas emissions, water pollution and water scarcity.” Indeed, “food lost to waste” accounts annually for 170 million MTCO₂e of greenhouse gas emissions (excluding landfill emissions), 664 billion kWh of energy use (“enough to power more than 50 million U.S. homes for a year”), and the application of 778 million pounds of pesticides and 14 billion pounds of fertilizer. Reducing food waste throughout the supply chain thus presents a clear opportunity for industry to reduce emissions and mitigate the impacts of climate change.

Standardizing date labels could also have a significant impact on the ESG’s social aspect by reducing food insecurity. Food lost to waste each year in the United States “contains enough calories to feed more than 150 million people, far more than the estimated 35 million” food-insecure Americans. Improved date labeling could provide key guidance to food-insecure Americans, food pantries, and grocery stores, thereby further reducing waste.

At the same time, reducing pre-sale waste at the retail level could cut food distributors’ costs by preventing the discard of unsold products and even ease supply chain burdens by allowing greater flexibility in food distribution. For consumers, transparent labeling could also increase consumer loyalty and trust in brand quality.

2022 saw continued progress in state and industry efforts to clarify and harmonize food product dating across the United States. We expect this trend to continue in 2023 as stakeholders recognize the benefits of increased supply chain efficiency, mitigating environmental and climate impacts, and reducing food insecurity. However, the behavioral response in consumers may lag as they internalize a new approach to food labeling.